I am a Professor of Economics at Texas Christian University, where I have worked since 1987. My areas of specialty are international economics (particularly exchange rates), macroeconomics, history of economics, and contemporary schools of thought. During my time in Fort Worth, I have served as department chair, Executive Director of the International Confederation of Associations for Pluralism in Economics, a member of the board of directors of the Association for Evolutionary Economics, and a member of the editorial boards of the American Review of Political Economy, the Critique of Political Economy, the Encyclopedia of Political Economy, the Journal of Economics Issues, and the Social Science Journal. My research consists of over thirty refereed publications, two edited volumes, and one book (with another in process). I have also been lucky enough to win a couple of teaching awards.
In terms of my approach to this blog, I am a firm believer that economics can and must be made understandable to the general public, but that our discipline has done a very poor job in this regard. This is particularly true of macro issues, where people quite naturally assume that their personal experiences are analogous to those at the national scale. Very often, this is not the case, with the result that politicians and voters (and some economists) press for policies whose effects are quite the opposite of what was intended. That this is problematic has never been more evident than today. I also try to steer as clear of politics as possible. I want to explain how things work, not what you should believe.
I have been married to my wife, Melanie, for over twenty-five years, and we have twin daughters (who have just started college) and a dog named Rommel (who has not). My favorite pastimes are online computer gaming and reading about WWII history.

Why You Should Learn to Love the Deficit: Federal Budget Fallacies

I’ve made eleven contributions to Forbes.com so far, over half of which were aimed directly at correcting misconceptions regarding the debt and deficit. Nothing could be more foolish right now than policies that reduce government spending or increase taxes. We have nearly 14 million unemployed people in the United States, a number that undoubtedly underestimates the true magnitude of the problem since it ignores discouraged workers and the underemployed. Despite this, Messrs. Obama, Ryan, and Geithner tell us that we need to make sacrifices. Seriously? The American people already have, and what they are asking us to do will simply make it worse.

And so, I’m writing on this issue yet again. There won’t be anything new here, but I want to organize it in a slightly different manner. I’ll begin with a very general background, then offer a list of popular fallacies, and close with some pointers to more resources.

BACKDROP

Understanding the role of the federal budget requires knowing a little something about the macroeconomy. Most critical is the fact that the private sector is incapable of consistently generating sufficient demand to hire all those willing to work. This is in spite of being able to produce enough output for everyone to enjoy–in fact, it’s partly because of it. A detailed explanation is offered in this post, Why Recessions Happen, but for here suffice it to say that if 90 people can produce a sufficient volume of goods and services to satisfy 100 people, then why would the private sector hire all 100? It wouldn’t, and those without jobs must go without the output that we are nevertheless able to produce for them. The unemployed lack the income that would make the production of those extra goods and services profitable.

This is where the government can play a useful, indeed vital, role. They can supplement demand by employing the unemployed as soldiers, sailors, airmen, marines, teachers, firemen, police officers, etc. Because we started at a point of less-than-full capacity, private sector workers give up nothing, entrepreneurs earn extra profits, and it creates a series of non-market services (national defense, fire protection, education, etc.). It is truly a win-win situation, which is possible when we have idle resources. And the funds to finance these activities should come from deficit spending. There is no point in taxing away spending power from the private sector in order to create demand from the government. That’s self-defeating.

This is the essential role that only the government can play, for only it can create demand from thin air. There is no other alternative if we want capitalism to survive. Should we seek to limit government power? Absolutely, just as much as we should do so with those mega-corporations that are dominating the private sector. But a modern capitalist economy without public sector demand will fail.

POPULAR FALLACIES (in no particular order)

When the government spends in deficit, that means I am being taxed more: I’ve heard this one numerous times and it’s very obviously false–the fact that you are not being taxed to cover the spending is WHY it’s a deficit! If taxes were rising along with the spending, then it would be a balanced budget. Does it mean taxes may rise in the future? It shouldn’t. In fact, if the deficit does what it’s supposed to, then the economy grows and the deficit automatically shrinks (as tax revenues rise and government spending for unemployment and income assistance falls).

Cutting the deficit by reducing spending puts money in my pocket: This ignores the fact that a) you weren’t being taxed to finance the deficit in the first place (or it wouldn’t have been a deficit) and b) government spending is money in someone’s pocket. Thus, cutting the deficit by reducing spending removes money. This is true even if you are in the private sector, since those government employees bought groceries, paid rent, went to the mall, etc., etc. They earned income for you by buying what you sell.

You can’t spend your way out of a recession: Of course you can. We did it in the Great Depression, Reagan did it, and it’s what we should be doing right now (instead of bailing out the financial industry, wasting time with Quantitative Easing, and trying to balance the budget). Why this works should be obvious from the backdrop offered above. Businesses will regain confidence, consumers will spend, and banks will loan. So, yes, you can spend your way out of a recession because a recession is caused by lack of spending.

Cutting government spending frees up resources for the private sector to grow: It might do so if we were already at full employment and using all our productive capacity. However, in the midst of the worst recession since the Great Depression, this argument holds no water whatsoever. We have plenty of idle resources, the private sector is simply choosing not to employ them. There is no need to free up something that is already in excess supply. Nor is there some web of regulations and taxes that is preventing recovery. The past thirty years has been a continuous deregulation of our economy and effective tax rates as a low as they have been since before World War Two.

The debt has never been this large: The proper measure of the size of the debt is relative to the size of the economy. Gross Domestic Product is typically used as the gauge of the latter. Even the most extreme measures of where it stands today puts debt/GDP at less than 100%. It reached it peak during WWII, when it was around 120% of GDP. The 1950s were , incidentally, hardly a period of economic Armageddon.

We have largest debt in the world: According to the CIA Factbook, as of 2010 we ranked 37th. That put us behind the world average, Spain, The Netherlands, Austria, the UK, Israel, Germany, Portugal, France, Ireland, Belgium, and Japan.

The debt must be repaid: We must, of course, meet the “monthly payments,” but the level of debt need never be zero. The government has an infinite life span, so there is no day of reckoning when all debts must be settled. And since the debt is owed in dollars, there is never any question that we have the ability to repay since we are allowed to issue brand new ones at any time. Nor is this necessarily inflationary, as explained in the next fallacy.

Deficit spending could create inflation: Yes, it could, if we were already at full employment (unemployment around 4%). In that case, the government would be competing for resources in an economy where no excess existed–that might drive up prices. But we are a long, long way from that right now. Furthermore, inflation is a far more complex phenomenon than most people understand. For more on how inflation really works, see here:

Government surpluses help the economy grow: In fact, surpluses represent a net drain on private-sector income. Think about it: what would happen if the government spent zero but still collected taxes? That’s what a surplus is, an excess of tax revenues over government spending. We would be bleeding wealth from the private sector and giving it to the public sector. Economic growth creates government surpluses (because tax revenues rise and public support spending falls), not the other way around.

The US could default: Every penny of US debt is owed in a currency we are legally permitted to print. There is ZERO chance that we could be forced to default. We may choose to do so (just as a person in a room full of food could choose to starve), but that would be foolish. Note the strong contrast with Greece. They could, indeed, default, since they owe their debt in a currency they don’t control (there are, incidentally, many other reasons why the US and Greece are not analogous, but this one is key).

Quantitative Easing represented government deficit spending: These two are fundamentally different. Deficit spending creates new income by having the government pay for goods, services, and resources using the Treasury Department’s checkbook. Quantitative easing was meant change the form in which financial assets were held in the banking system so that it would easier for institutions to loan money. It created absolutely no new income whatsoever, which is why it was an utter waste of time. The problem was never that banks didn’t have money to loan. It was (and is) that everyone is too scared to borrow.

China controls our economy because we owe them so much money: It must be made clear that US debt to China has nothing to do with the federal government budget deficit and everything to do with the trade deficit. Even if the US government were in surplus, we would owe as much to China because our debt to them is simply the difference between how much we exported to them and how much we imported from them. They then take those excess earnings and use them to buy financial assets. That we had large budget deficits only served to make a particular financial asset–Treasury Bills–available to them in large quantities. We never needed China to buy these to finance the deficit because (in a roundabout fashion) we could always have monetized debt (i.e., sold the Treasury Bills to the Federal Reserve for brand new cash–see above for why this is not inflationary). The one thing we still don’t import from China are dollar bills! If they wanted all the money back tomorrow, we could just print it up and ship it over. China does not own the US, and they desperately need us to grow if they are going to make it because they have very little domestic demand to generate growth and are dangerously dependent on exports.

FURTHER RESOURCES

Explaining all this is so difficult because people already have in their heads that government budgets are analogous to their own. This is false, but it takes time and patience to explain why. Thus, while I hope you found the above interesting, you may want to read these, too. They represent more pointed and extended discussions of the issues we face.

This is the first piece I wrote here and is the most comprehensive treatment I have done:

I’d like to apologize in advance for the fact that I am simply not going to have the time to devote to answering comments that I usually do. I’ll do my best, but I have to start being more selective. I have too many other obligations, not least of all to my family! Speaking of which, I would also like to take this opportunity to publicly thank my wife, Melanie, for her help, encouragement, and patience with this project. She has read over many of these entries for me, pointing out where I was wrong and when I was unclear. Thanks, babe.

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Here you are mistaken. And having the majority of economists agree with you is probably not a good thing. The majority of economists failed to even see the crisis coming or real estate collapse. They don’t have a clue how to fix it. QE 2 was supposed to, but it has done nothing. The people I listen to were talking about it in 2005 and 2006. The historical context is debt, public and private. The political context is the politicians destroying the country trying to fix a problem that they created. Our government is already as corrupt as that of Mugabe. The only difference is in the amount of capital they have had to destroy. None of the problems that created the problem have been resolve. They have only been made worse; more debt, more spending. And that will only continue until the current system collapses.

I actually do not agree with the majority of economists on specific details, but that doesn’t mean I can’t align with them on some issues. The economists I mostly read were predicting this in the late 90s- some one upped you there (http://neweconomicperspectives.blogspot.com/2011/06/recent-usa-sectoral-balances-goldilocks.html). Agreed QE2 was pointless and harmful, but for different reasons. You’re still confusing the nature of different spending and debt.

It ends here. That’s fine if you think we’re as corrupt as Mugabe. I disagree wholeheartedly. Let’s just have history play this one out, okay? When we don’t collapse in a couple years, I’ll come back and see if you are willing to open your mind.

There are many false statements in the article that demand an answer. One of the worst assertations that the author made is about inflation. It is clear that he has never read anything by Tom Woods, Murray Rothbard, Ludwig von Mises, or F A Hayek. There is a complete disregard for history or any sense of monetary value. Those that fail to learn from history are forced to repeat it… and not just next semester.

First, inflation is not an actual increase in prices, but instead a devaluation of the currency. Prices may fluctuate due to supply and demand issues. That has nothing to do with a loss of purchasing power of a monetary unit. In the USA, we do not use hard money but a “fiat” currency. The fact that paper notes have their value only by declaration of the government should be a dead giveaway that there is no intrinsic value and that the paper is worthless. the amount of money in circulation determines the value of the currency. This law is called “scarcity of resources.” The value of a work of art by da Vinci is based mostly on the fact that no new works will be produced and any copies will be just that… copies.

When the world was still using sound money (gold and silver) the main way of devaluing currency was to cut the metal from around the edges. This was called coin clipping and the reason that many of our coins today have the ridges around the edge. As John Locke pointed out when the English government wanted to reduce the silver content in the coins but keep the same denominations stamped upon the coin, “It is the weight of the silver and not the denomination stamped upon it that gives it value.” Imagine ordering a 16 ounce porterhouse steak and getting a tiny little white castle slider size piece of meat. That would certainly qualify as devaluation instead of net weight before cooking.

From the article: “And since the debt is owed in dollars, there is never any question that we have the ability to repay since we are allowed to issue brand new ones at any time. And since the debt is owed in dollars, there is never any question that we have the ability to repay since we are allowed to issue brand new ones at any time.”

If the printing press is such a viable option, why don’t we just pay it off now and avoid the interest charges? If there was a truth in lending statement like we see in mortgages and car notes, we would know that the amount paid after finance charges will be triple the amount that we borrowed. Maybe even more if our government is just making the “minimum monthly payment.” Perhaps it is a “credit rebuilding” loan plan designed to boost our credit rating since many of the rating companies and investors have lowered the rating to negative (and even junk status.)

In fact if the printing press is such a viable option, why did we borrow the money in the first place? The government could just as easily have printed enough prosperity for the economy to get back to a full steam ahead position like the “little train that could.” If enough money was printed off, they could declare “mission accomplished” in the war on poverty and bring everybody home. The poorest of our population could all be millionaires at the very least. Then there would be no more human suffering as our citizens could all retire and the poorer nations could boost their economy by simply catering to our every need, want, and desire. To keep the printers from being overwhelmed by all of the extra work, we could just repeal the laws prohibiting counterfeiting and let the citizens just print the money from their computers and printers at home. It is really unfortunate that Facebook does not have a special font to denote sarcasm but you don’t need a firm grip on the obvious to figure out that the contents of this paragraph were not just sarcastic but also contemptuous. There is a reason that counterfeiting a fiat currency is illegal to the citizens and only a monopoly privelege of the government. And here it is:

Germany between WW1 and WW2: After the League of Nations handed down enormous sanctions against Germany for reparations, the Germans turned to the printing press to pay off their debt which was known as hyperinflation. It got so bad that: 1. The notes were only printed on one side ( the money was not worth the ink that was printed upon it.) 2. Workers were paid daily and eventually multiple times per day because the money would lose value in such a short matter of time. The men would slip the money to their wives through the fence so they could spend it before it lost even more value. 3: There was no savings of private individuals and therefore no economization of resources. 4. Because money was spent so quickly, the shelves were emptied as quickly as they were stocked thus causing shortages of supplies that people needed to live. 5: German Marks were used for burning in stoves because they were worth less than other non-currency paper. 6: People would have to carry thier money in wheelbarrows or baskets to have enough to purchase modest groceries. 7: If left unattended, a person could expect to come back and find a pile of money on the ground and the wheelbarrow or basket missing because that had real value for trade.

This is nearly a century ago and could never happen later because the planners have abviously found a solution to prevent this from happening again…. Argentina in the late 1980′s and 90′s: Argentina started the 20th century as the 7th wealthiest nation in the world. This was after defaulting on the national debt twice in the 1800′s. The deficit spending got to the point where the couuntry became the degenerate borrower that people avoid and their credit was cut off. Sure enough the printing press kept a rollin’ all night long until hyperinflation set in and the Argentine currency became worthless. see attached article http://financialcrisisaftermath.com/the-instability-scenario/lessons-from-argentinas-hyperinflation/

We can also point to countries like Mexico or Italy reissuing their currency with fewer zeroes after the previous notes ran out of room for the zeroes. It’s a good thing that they did not know about exponents. But that was in the last century… surely it must be a thing of the past as this is also a new millenium…

Zimbabwe 2009: After the printing press did its job again… see the attached article about the $50 billion (Zimbabwean) dollar bill. http://articles.cnn.com/2009-01-10/world/zimbawe.currency_1_zimbabwe-dollar-mugabe-and-opposition-leader-president-robert-mugabe?_s=PM:WORLD

Oops they did it again. Now foreign currency and gold or silver are used.

But that could never happen here…

Murray Rothbard wrote a book called, “What Has Government Done to Our Money?” Considering that the dollar of 1913 has less than a nickel of its purchasing power today, it would be fair to say that disintegration is the answer. As long as the printing press is an option to our wise overlords and they have a monopoly privelege over the issue of currency enforced by legal tender laws, we the people are screwed.

To any of my economist friends, if I got anything wrong in this article (except from spelling and grammar as I wrote this off the top of my head while sleepy) please feel free to call me out on it. Given the examples listed above and supportive documentation, the only conclusion that can be reached is that this professor is poisoning the minds of the young and impressionable and the readers of his blog that do not take the time to think and ask a few simple questions. In short, he is a wrong.

Somewhere out there is the dumbest economist in the world… and somebody in government will be reading his/her work. (paraphrased and changed from) Tom Woods

This article is a perfect example of the prodigious capacity for cognitive dissonance of disney economists.

“When the government spends in deficit, that means I am being taxed more”.

Blatant straw man. No one claims this, they do note that spending if not paid for equals tax of some sort whether it’s directly or inflation. And that is correct. This outstanding bill is one reason business doesn’t expand. They don’t know how much of it they will have to pay and thus their ability to predict, never perfect, is hamstrung.

“Cutting the deficit by reducing spending puts money in my pocket”

Another strawman that no one claims. However the previous analysis applies. Less spending means less taxation on the horizon, so business and consumers buy more and yes there is more money in peoples’ pockets.

“You can’t spend your way out of a recession”

And you can’t, FDR proved this wonderfully. Even if the government discovered a vast lode of gold under the white house and spent it, this would still not be true, and it’s certainly not true with fiat currency. The reason is government spending shifts resources from sustainable enterprise to unsustainable. Enterprise that was productive (produced a profit) is supplanted by unsustainable enterprise that can only exists so long as it is subsidized or protected. This destroys wealth creation. This is the last thing you need to do anytime, and especially in a recession. Generally speaking all modern recessions are _corrections_ to government caused misallocation of resources, which MUST OCCUR because supported enterprise IS by definition _unsustainable_.

“Cutting government spending frees up resources for the private sector to grow”

It is true, and It has nothing to do with employment, except negatively. Again government spending sacrifices sustainable enterprise at the expense of unsustainable. Similarly it sacrifices _prospective_ sustainable enterprise by sucking up available credit. Right now credit is cheap, but unavailable. This is simply because we effectively have price controls on credit. This of course is redistribution to the rich who are the ones who can get credit, and cheap. Restated, the jobs created by government spending do exist, but since they consume resources rather than produce them, the more you shift to public, the less overall employment can exist with the same net resources at any point in time, and _over_ time employment is reduced.

“The debt has never been this large”

Well it’s certainly true in absolute terms, but the fact is in WW2, it certainly WAS Armageddon, and also we had gold to (in theory) back up the debt. Now all we have is promises against the theoretical productivity of future Americans. Who by the way, cannot ever receive benefit of most of the previous spending and could not have voted for the debt they ‘own’

“We have largest debt in the world”

We do. Per capita we don’t (yet) but we certainly do.

“The debt must be repaid”

Straw man again. People are _obviously_ aware default is a possibility. But that will incur a foreign relations ‘debt’ which very well may mean more war and it’s certainly conceivable a quite real Armageddon. All you would need is a Mao or Hitler to come to power in China and inflame (justified) Chinese anger. Even barring that (hopefully) unlikely even the debt will be paid by tax or inflation (which is just a regressive tax on currency holders) or grow and be serviced at higher and higher amounts.

“Deficit spending could create inflation”

Well this is again correct, and everyone who claims this understand this will occur once the velocity of money picks up. It’s not a question of if but when. The real question is does the fed have a magic bullet that can vacuum out the currency to avoid HI without causing other bigger problems. If so it would be the first sign of competence we have seen.

“Government surpluses help the economy grow”

Another straw man, never have I heard this claim, but yet were it claimed it would be false. What is fascinating is that the OP understands that government could crowd out private enterprise when the sign is POSITIVE;) But go below zero and OMG all of the sudden crowding poofs!;)

“The US could default”

Claim is correct. OP is wrong. We could default. It’s unlikely though. The 14th Amendment would open a lot of court cases for debt holders to force the feds to service debt over any other claim.

“Quantitative Easing represented government deficit spending”

Well it certainly abets it, but it doesn’t represent it true. Interesting that the OP says it was a waste of time (it was worse than a waste of time) because that is a typical disney economics meme. Typically Disney economists latch onto Freidmans’s incorrect assertion that feds lack of easing worsened the great depression.

“China controls our economy because we owe them so much money”

Overstated but true. We certainly have to be careful as there have been pushes in China to get out of US debt. If that happens we have problems. The calculus is that so would they, and it’s true there would be short term pain. Although in the long run they would be better off to get out soon.

On this topic we should relish their devalued currency and take advantage of it so long as they are willing to soak Chinese currency holders to make their good cheap. Because it won’t last.

I signed up as a member of Forbes solely because I just had to comment about how goofy Mr. John T. Harvey is! It is very evident he is a very poor economist and he also knows nothing about history. We did not ‘spend’ our way out of the great depression… our country was still mired in depression almost ten years after FDR took office and started us on the big downhill slide of overspending and overspending. It took World War II, (and all the huge arms purchases and other war material by all the rest of the world), to finally get the U.S. out of the great depression. Mr. Harvey says overspending won’t hurt the U.S., but he does not take time to explain how Greece and other over-spend nations are facing dire staits.

I don’t think I would say a deficit is good, but I would say that a starting point for making it less bad, is when you are spending your own money and you have the capacity to pay it back without stealing from other people. If you are using credit cards to buy groceries and pay the electric bill you have a problem.